It is important for startups to maintain a clean cap-table. It helps investors understand the ownership structure and builds trust. It also facilitates informed decisions. During due diligence, many investors examine the cap table and the data room to assess not only the ownership details but also how well the founders manage this information. Cap tables that are inaccurate or messy can cause legal issues, complicate fundraisers, and incur substantial legal fees. This could deter investors and delay the investment process.
Clean as You Go
Melissa Withers, Managing partner & co-founder, RevUp Capital stresses the importance of a clean captable:
“Long before becoming an investor, I worked as a restaurant worker, where there was one cardinal rule that I followed: clean as you go. The same is true when it comes to managing your company’s data. Founders cannot afford to accumulate toxic waste like outdated documents and broken spreadsheets. Your data room does not need to be a beauty contest winner. If it also doubles as a Superfund Site, you will pay for it with wasted time, lost opportunities, and money down a drain .”
Laura Stoffel is a Partner at Gunderson Dettmer – the preeminent global law firm that focuses exclusively on the innovation economy. She believes that transparency plays a key role in building relationships between founders and investors.
“A clean, accurate cap table allows investors to understand the ownership structure of a company. This builds trust and helps with investment decisions.”
Kristen Craft, Vice-President, Business Partner Manager, Fidelity Private shares, says : “A clean cap table helps instill confidence that founding team members know what they are doing, and can run a tight ship.”
Experts emphasize the importance of transparency and honesty in managing investor relations. Investors want to know what’s working, what’s not, and any changes to the business. The cap table is a reflection of the health of a business. Founders should strive to be accurate and transparent with their investors about ownership, documentation and other critical data.
Melissa continues, “Lacking transparency is a deal-killer.” It’s even worse that creating friction or distrust does not require a deliberate attempt to mislead. The same negative feelings are triggered by messy, difficult-to-parse information. Was your lack transparency sloppy, or deceptive in nature? This is NOT the question that you want me to ask when I consider an investment in your company .”
Avoiding Common Cap Table Mistakes
Even experienced entrepreneurs can make mistakes with significant consequences. Some common mistakes include failing to update the cap table on a regular basis, misallocating equity and failing properly document equity transactions. Laura explains how to avoid these mistakes by using captable management software, consulting legal and financial advisors and maintaining meticulous records.
Kristen Craft says, “One of most common mistakes made by founders is not maintaining parallel information on their cap table and in their data room. For example, if the company had issued equity or options to a new employee, the information on the captable may be different from the offer letter. Fidelity Private Shares is designed to avoid such issues .”
Who is responsible?
To maintain a clean captable, regular updates are required, usually after each equity transaction such as the issuance of new shares, options or warrants, SAFEs or converting notes. This should be done when a new stakeholder is involved, such as a new investor or employee. The cap table is typically maintained by your law firm, CFO or a dedicated member of the finance team.
Kristen continues, “For companies in the early stages, it is usually the founder or their attorney who maintains this information.” In the later stages of a company, it is likely that a CFO or fractional-CFO will maintain this data .”
Early Birds
When it comes early employees, founders need to be conservative when it comes to equity sharing. Laura advises “The amount of shares allocated to an employee or advisor should directly correspond to the value that contributors will provide to the business.” Using this approach aligns incentives, and helps maintain a committed and motivated team.
Alicia Tulsee warns that “the wrong recipients will cling like barnacles to your company, riding on your successes without merit.”
Allocating equity through stock options and grants is crucial. When bringing on new advisors or employees, it’s important to have accurate and current equity information.
Kristen from Fidelity private shares mentions that “We make it simple to store offer letters or equity grant documentation.” Startups should also consult their attorneys to determine the legal requirements and priorities before hiring these people, in order to avoid any surprises.
Transparency is important in terms of letting employees know the value and mechanics behind their options.
The Right Tools
Alicia recommends Shoobx as her favorite tool to manage the cap table. “Shoobx is a company that practices what it preaches and supports marginalized founders. I love that their platform integrates seamlessly with Gusto, which streamlines our hiring and employee profiles creation. I wish I switched to Shoobx before I started Moxie Scrubs. Their tools and team could have been a game changer .”
Kristen recommends that startups use Fidelity private shares when it comes time to raise money, prepare for due diligence and run a tight ship. “As a former founder and a long-time startup operator myself, I understand the importance of having the best tools and relationships. Fidelity Private Shares is the best cap table and dataroom tool I have ever used. When you choose a captable platform, you are usually choosing a long-term (if not decade-long), relationship. I believe Fidelity sets the standard for building long-term relationships with clients .”
Protecting Founder Equity
Dilution is a decrease in the ownership percentage of existing shareholders after a fundraising round. It is important to protect founders’ equity and prevent cap table dilution. Most strategies include negotiating antidilution provisions, and maintaining a conservative equity grant approach.
Laura adds
A good modeling tool can allow founders to play with different scenarios and nuance the model by using different terms in a termsheet. Kristen mentions Fidelity Private Shares as a good option.
Alicia advises: “I’ve heard of early-stage entrepreneurs issuing convertible notes and SAFEs with different valuations based upon the investor they are working with, but without fully understanding the impact on dilution.” This can lead to regrets when trying to raise additional funding or, even worse, not being successful in securing meaningful funding because of the terms.
Melissa, an experienced investor, says, “For many, ‘getting the next equity round’, is a terribly restricted way of thinking about building a company. Few companies can or should be financed exclusively by a linear progression in equity rounds. If you have no experience using capital tools other than equity, EDUCATE yourself or find someone with experience. Now. This is the best way to preserve equity, agency and optionality. Three good squares you should keep on your founder bingo cards !”
Convertible Notes & SAFEs
Convertible notes are becoming increasingly popular for fundraising, but they do have some drawbacks. Laura, Partner at Gunderson Dettmer explains that “Convertibles notes and SAFEs may lead to significant changes in cap tables upon conversion, which can dilute existing shareholders.” Founders must carefully consider terms such as discount rates and valuation caps, and plan their impact on the equity structure .”
Alicia, Founder & Chief Executive Officer at Moxie scrubs, supports this argument, and warns founders of anti-dilution provisions. “SAFEs and convertible notes can have a negative impact on your cap table. You need to be aware of the implications.” Model the terms that you are proposing so that you fully understand the impact. This will allow you to visualize the outcome, internalize it and decide whether or not it’s worth your time. Avoid anti-dilution clauses as they can complicate and reduce your equity stake em>, giving unfair advantage to investors em>
Negotiating Favorable Terms
Startups need to understand their cap table, and the implications of investment terms proposed in order to maintain control and minimise dilution. In order to negotiate favorable terms and ensure that the cap table is fair and balanced, it’s important to engage experienced financial and legal advisors. Cap table management is crucial to the future of the company and investor confidence. This strategic approach helps startups navigate fundraising complexities and fosters growth over the long term.
It is important to align interests when negotiating cap-table terms or investment valuations. Alicia suggests that you highlight your startup’s unique strengths and track record in order to demonstrate its potential. Investors should realize that demotivating the founders is counterproductive. So don’t be afraid to negotiate. Negotiation is not something to be afraid of. They expect you to .”
Kristen stresses the importance of having a variety of options for lead investors, and terms. This allows founders to be in a stronger position when negotiating. By establishing strong relationships with investors through research and network, you can maximize fundraising and negotiate favorable terms.
“Most serial entrepreneurs in my network emphasize the importance of term-sheet negotiation. In an ideal situation, a founder would have a number of options when it came to the lead investor’s terms and their offer. This allows them to negotiate from a strong position. A founder who wants to have multiple options should have a long list of qualified investors. Researching a potential investor and networking your way into the company can help a founder maximize their outcomes before embarking on an investment raise .”
Advice for first-time entrepreneurs
Laura recommends that you keep meticulous records of equity transactions, use reliable cap table management software and seek professional advice when issuing shares. “Regularly update and review the cap table in order to reflect accurate changes, ensuring transparency for future funding rounds.”
Alicia supports her statement by saying “Keep the cap table clean by regularly updating it and recording every transaction.”She recommends being conservative with initial equity allocations and enforcing cliff-vesting schedules to make sure equity is earned. Founders need to plan for dilution. She also encourages regular consulting with legal and financial advisers to ensure compliance.
Kristen urges entrepreneurs to not wait too long before switching from spreadsheets to a cap table solution. This can save time and effort in the future. “A platform like Fidelity will save you a lot of time and headaches in future. I would also recommend founders work with a platform that is known for its excellent customer success and support team. Our CS teams at Fidelity, for example, work hard to ensure that founders have a clean data room and cap table from the very beginning through every stage of growth .”
Final Thoughts
Maintaining an accurate and clean cap table is crucial for startups looking to gain investor trust and secure funding. By understanding the importance and strategic use of cap-table management tools and transparency, founders will be able to navigate the complexities of fundraising and equity distribution. By following these best practices, startups are able to build strong investor relationships, reduce legal and financial risk, and position themselves well for long-term success. A well-maintained captable not only reflects the strength of the business, but also the preparedness and competence of the founding team. As you embark on an entrepreneurial journey, make sure to prioritize the integrity of your capital table in order to create the conditions for sustainable growth and investment.